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Archive

A Crisis to Shatter the World

If the US won't swap Dollars for gold, the rest of the world will just have to make the exchange itself...

THE PRESIDENT of FRANCE went to Washington this week. He spoke to Congress en Français and told the United States to stop dumping Dollars on the rest of the world, risking a global financial crisis.

Zut alors! Sounds just like old times...

"The Dollar cannot remain solely the problem of others," said Nicholas Sarkozy before a joint session of Congress on Wednesday. He was riffing on the (infamous) joke made by John Connally, Treasury Secretary to Richard Nixon in the early '70s.

Connally had told the world that the Dollar was America's currency "but your problem." Au contraire, replied Monsieur le President this week.

"If we're not careful," Sarkozy went on – apparently using "we" to mean both himself and the US Congress – "monetary disarray could morph into economic war. We would all be its victims."

Ooh la la! Did Sarkozy need to take a little Dutch courage before speaking his mind to US legislators and wonks? (As the Belgian news anchor in this clip from June's G8 summit puts it, M.Sarkozy only ever drinks lots of water.) Telling the US to take responsibility for its actions – and its currency – is a gambit for only the brave.

It weighs heavy with history, too. "What the United States owes to foreign countries it pays – at least in part – with Dollars that it can simply issue if it chooses to," barked French president Charles de Gaulle in a landmark press conference of Feb. 1965.

"This unilateral facility contributes to the gradual disappearance of the idea that the Dollar is an impartial and international trade medium, whereas it is in fact a credit instrument reserved for one state only."

De Gaulle did more than simply grumble and gripe, however. Unlike Nicholas Sarkozy, he still had the chance to exchange his dollars for a real, tangible asset – physical gold bullion – at the Federal Reserve.

Gold "does not change in nature," de Gaulle reminded the world in that 1965 speech. "[Gold] can be made either into bars, ingots, or coins...has no nationality [and] is considered, in all places and at all times, the immutable and fiduciary value par excellence."

How to collect and hoard this paragon of assets? Back in the 1950s and '60s, world governments could simply tip up at the Fed, tap on the "Gold Window", and swap their unwanted dollars for gold.

So that is exactly what de Gaulle did.

Starting in 1958, he ordered the Banque de France to increase the rate at which it converted new Dollar reserves into bullion; in 1965 alone, he sent the French navy across the Atlantic to pick up $150-million worth of gold; come 1967 the proportion of French national reserves held in gold had risen from 71.4% to 91.9%. The European average stood at a mere 78.1% at the time.

"The international monetary system is functioning poorly," said Georges Pompidou, the French prime minister, that year, "because it gives advantages to countries with a reserve currency.

"These countries can afford inflation without paying for it."

In 1968, de Gaulle then pulled out of the London "Gold Pool" – the government-run cartel that actively worked to suppress the Gold Price, capping it in line with the official $35 per ounce ordained by the US government. Three years later, and with gold being air-lifted from Fort Knox to New York to meet foreign demands for payment in gold, Richard Nixon put a stop to de Gaulle's game. He stopped paying gold altogether.

De Gaulle called the Dollar "America's exorbitant privilege", repeating a phrase of his favorite economist, Jacques Rueff. This privilege gave the United States exclusive rights to print the Dollar, the world's "reserve currency", and force it on everyone else in payment of debt. Under the post-war Bretton Woods Agreement of 1946, the Dollar could not be refused.

Indeed, alongside gold – with which the Dollar was utterly interchangeable until 1971 – the US currency was real money, ready cash, the very thing itself. Everything else paled next to the imperial Dollar. Everything except gold.

And today?

"Printing a $100 bill is almost costless to the US government," as Thomas Palley, a Washington-based economist wrote last year, "but foreigners must give more than $100 of resources to get the bill.

"That's a tidy profit for US taxpayers."

This profit – paid in oil from Arabia...children's toys from China...and vacations in Europe's crumbling capital cities – has surged since the Unites States closed that "Gold Window" at the Fed, and ceased paying anything in return for its dollars.

Now the world must accept the Dollar and nothing else besides. So far, so good. But the scam will only work up until the moment that it doesn't.

"The US trade deficit unexpectedly narrowed in Sept.," reported Bloomberg on Friday, as "customers abroad snapped up American products from cotton to semiconductors, offsetting the deepening housing recession that is eroding consumer confidence.

"Exports have reached a record for each of the past seven months, the longest surge since 2000," the newswire goes on, which "may help explain why the Bush administration has suggested it's comfortable with the Dollar's drop. It has declined in all but one of the past five years, even as officials say they support a 'strong' Dollar."

What Bloomberg misses, however, is the surge in US import prices right alongside. They rose 9.2% year-on-year in October, the Dept. of Labor said on Friday, up from the 5.2% rate of import inflation seen a month earlier.

Yes, the surge in oil price must account for a big chunk of that rise – and the surge in world oil prices may do more than reflect Dollar weakness alone. The "Peak Oil" theory is starting to make headlines here in London. Not since the Club of Rome forecast a crisis in the global economy in 1972 have fears of an energy crunch become so widespread.

But if you – an oil producing nation – were concerned that one day soon your wells might run dry, wouldn't you want to get top dollar for the barrels you were selling today? Especially if the very Dollar itself was increasingly losing its value?

"At the end of 2006, China’s foreign exchange reserves were $1,066 billion, or 40% of China’s GDP," notes Edwin Truman in a new paper for the Peterson Institute. "In 1992, reserves were $19.4 billion, 4% of GDP. They crossed the $100 billion line in 1996, the $200 billion line in 2001, and the $500 billion line in 2004."

What to do with all those dollars? "If all countries holding dollars came to request, sooner or later, conversion into gold," warned Charles de Gaulle in 1965, "even though such a widespread move may never come to pass...[it] would probably shatter the whole world.

"We have every reason to wish that every step be taken in due time to avoid it," the French president advised. But the step chosen by Washington – rescinding the right of all other nation-states to exchange their dollars for gold – only allowed the flood of dollars to push higher.

Nixon's quick-fix brought such a crisis of confidence by the end of the '70s, Gold Prices shot above $800 per ounce – and it took double-digit interest rates to prop up the greenback and restore the world's faith in America's paper promises.

The real crisis, however – the crisis built into the very system that allows the US to print money which no one else can refuse in payment – was it merely delayed and deferred? Are we now facing the final endgame in America's post-war monetary dominance?

If these sovereign wealth funds – owned by national governments, remember – cannot tip up at the Fed and swap their greenbacks for gold, they can still exchange them for other assets. BCA Research in Montreal thinks that "sovereign wealth funds" owned by Asian and Arabian governments will control some $13 trillion by 2017 – "an amount equivalent to the current market value of the S&P500 companies."

And if China doesn't want to buy the S&P500 – and if Congress won't allow Arab companies to buy up domestic US assets, such as port facilities – then the sovereign wealth funds will simply swap their dollars for African copper mines, Latin American oil supplies, Australian wheat...anything with real, intrinsic value.

They might just choose to Buy Gold as well. After all, it remains – "in all places and at all times...the immutable and fiduciary value par excellence," as a French president once put it.

Charles de Gaulle also warned that the crisis brought about by a rush for the exits – out of the Dollar – might just "shatter the world". It came close in January 1980. Are we getting even closer today?

Adrian Ash is director of research at BullionVault, the physical gold and silver market for private investors online. Formerly head of editorial at London's top publisher of private-investment advice, he was City correspondent for The Daily Reckoning from 2003 to 2008, and is now a regular contributor to many leading analysis sites including Forbes and a regular guest on BBC national and international radio and television news. Adrian's views on the gold market have been sought by the Financial Times and Economist magazine in London; CNBC, Bloomberg and TheStreet.com in New York; Germany's Der Stern; Italy's Il Sole 24 Ore, and many other respected finance publications.

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